Equity markets underwent a rather mixed session yesterday, as oil prices slipped back after Saudi Arabia indicated that output might well return to normal by the end of the month.
This is a welcome development and reduces the prospect of an oil price shock knocking the stuffing out of the global economy in the coming weeks and months. It does of course rely on there being no further ratcheting up of the tension in the region, in the form of further strikes, retaliatory or otherwise, and as such has seen some weakness in oil exposed stocks, ahead of today’s Fed rate decision.
Last week UK wages rose at their fastest rate for 11 years, rising 3.8% in the three months to July, which when combined with unemployment being at 45-year lows shows that, despite all the doom and gloom which accompanied the slowdown in Q2, real wages are once again heading back to levels last seen before the 2016 Brexit referendum.
The release of CPI inflation numbers for August could well also offer some further good news on the consumer front, if as expected headline CPI falls back sharply from 2.1% to 1.9%, while core prices are expected to come in at 1.8%, down slightly from 1.9%. These forecasts seem slightly counterintuitive when set against the recent decline in the value of the pound to multi year lows last month, however the effect of the recent fall in sterling may well come out in the wash as we head into the end of the year.
We also get the final EU CPI numbers for August later this morning, which are expected to be confirmed at 1% on the headline rate and 0.9% on the core measure.
Today’s Fed decision is once again likely to be a contentious one, given the two dissents we saw to the last cut in rates, which saw the US central bank cut by 25bp at its July meeting.
At the time Fed chair Jay Powell pushed the line that the cut was a mid-cycle adjustment, while the most recent minutes showed that there was little if any discussion of further rate cuts to come. The minutes also showed that two members wanted a bigger cut of 50bps, largely due to concerns about weak inflation, and a slowing global economy.
Since then the debate has moved on a touch with global growth showing further signs of weakness and headwinds from the trade war picking up, while the US economy has continued to remain fairly solid. Despite this, markets have continued to price in the prospect of further cuts by the end of this year, against a backdrop of a US President who wants the Fed to cut more aggressively.
It seems indisputable that the Fed won’t cut by another 25bp today, however the bigger story will be in how it manages its message without appearing even more divided than it was in July, against a backdrop of an oil price spike, which if sustained could see inflation move higher. Signalling further cuts in the teeth of a possible oil price shock would not be a wise move.
There hasn’t been anything in recent data to suggest that Eric Rosengren of the Boston Fed, or Esther George of the Kansas City Fed were mistaken in their dissent from July, which means they are just as likely to dissent again with respect to today’s decision, if the Fed does go ahead and cut again.
This brings us to the question as to whether anyone will join them in any dissent, or whether the Fed policymakers who argued for a 50bp reduction in July also maintain that position, and whether they are joined by St. Louis Fed President Bullard who recently argued the case for a 50bp cut in an interview at the beginning of this month, citing moves in the market that Fed policy was too tight.
Bond markets have sold off quite a bit in the last few days pushing yields up sharply from the lows at the beginning of the month, as some of the more aggressive expectations about possible Fed moves get priced out. Nonetheless markets are still pricing in at last two more cuts by year end, which means that any decision today will also need to be complemented with some coherent guidance for the next 12 months.
This, of course means that Fed chair Jay Powell will have to steel himself to maintain a consistent view on how policymakers view the US economy, while keeping options open for further cuts if the need arises.
Pre-committing to further rate cuts just to keep the market happy should not be the central bank’s primary function, however it also shouldn’t rule them out completely. As Powell has found on previous occasions that can be a tricky balancing act, especially when you have the US President tweeting abuse your way on virtually a weekly basis.
In the 1980’s former Fed chairman Alan Greenspan was reported to have said on a number of occasions words to the effect, "I guess I should warn you, if I turn out to be particularly clear, you’ve probably misunderstood what I said.” Jay Powell could do worse than to take away that particular note from the Greenspan playbook, when dealing with the markets, as well as journalist questions on next policy steps.
EURUSD – while above support at the 1.0925 area the risk is for a rebound back to the 50-day MA now at 1.1130, which could retarget the August peaks at 1.1250. Below 1.0920 targets the 1.0800 area.
GBPUSD – last week’s break above the 50-day MA at 1.2280 has the potential to open up further strong gains towards the 200-day MA at 1.2740. Found support at the 1.2380 level yesterday with larger support at the 1.2280 area. While above these levels risk is we could see a move towards 1.3000.
EURGBP – currently have significant support at the 200-day MA at 0.8840. While above 0.8840 the prospect for a pullback towards 0.8980 is a possibility. A break below 0.8830 opens up the prospect of further losses towards 0.8795 initially with the prospect of further losses towards 0.8720.
USDJPY – the US dollar is currently striving to overcome the 108.20 area but we have thus far been unable to maintain a foothold above it. A sustained move through 108.30 opens up the possibility of a move towards 109.20. While below 108.30 the risk is for a drift back to the 107.50 area.
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